How to Count House Expenses?

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Gilberto de Piento
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How to Count House Expenses?

Post by Gilberto de Piento »

At some point I'll probably buy a house. How do you count house-related costs in your calculations?

For example, if I count a $40,000 downpayment as an expense in a given month it's going to make my calculations and charts go crazy. It is an expense, but it also feels like an investment not different from buying a stock. I don't count my 401k contributions or other investments as expenses. But I want to count my monthly payment as an expense because otherwise it will look like I have free housing and I am FI now. I have my own thoughts but I'm curious, what do you think?

Costs I can think of (with my opinion on how it should be categorized):
- Inspection (expense)
- Appraisal (expense)
- Earnest money (not sure, but I'm inclined not to count it as an expense)
- Downpayment (not sure)
- Insurance (expense)
- Monthly payment (expense, but could be an investment)
- Repairs (expense)
- Improvements (expense, but could be an investment)

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Seppia
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Re: How to Count House Expenses?

Post by Seppia »

In theory, anything that builds equity is not an expense per se, as you are shifting your asset allocation from cash to real estate.

Real estate is not very liquid, valuations fluctuate and are uncertain etc, but I think in general it's the right way to approach the problem.

So my take would be:
- Inspection (expense)
- Appraisal (expense)
- Earnest money (I don't know what this means)
- Downpayment (investment)
- Insurance (expense)
- Monthly payment (the interest part of the payment is an expense, the capital part an investment)
- Repairs (expense)
- Improvements (investments if they materially impact resale price, expenses otherwise)

Now the fact of counting the house as part of you "FI" stash I don't know.
Personally I would not, as it is an expense reducing* asset, not an income producing asset (one could argue these two things are equivalent though)

*are we even sure about this?

Gilberto de Piento
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Re: How to Count House Expenses?

Post by Gilberto de Piento »

- Earnest money (I don't know what this means)
It's part of the downpayment you lose if you back out of the deal. I should have left this line out as it is basically part of the downpayment.
Last edited by Gilberto de Piento on Fri May 25, 2018 8:50 am, edited 1 time in total.

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Bankai
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Re: How to Count House Expenses?

Post by Bankai »

Down payment is not an expense - all you're doing is changing mix of your asset allocation.

Mortgage payments - split between interest part (expense) and capital repayment (savings).

Everything else looks like expenses to me.

prognastat
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Re: How to Count House Expenses?

Post by prognastat »

I would agree that everything aside from the downpayment and the amount of your monthly payment going towards principal would be an expense.

I wouldn't count improvements as investment as it is very hard to say if you will actually be making money back on it as many home improvements cost more than you will ever make back on sale(that is if you ever sell).

Fish
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Re: How to Count House Expenses?

Post by Fish »

I agree with ffj, it really all is an expense. Your primary residence is not an investment while you are living in it! Think Rich Dad Poor Dad’s definition of assets vs. liabilities (i.e. concern yourself with the direction of cash flow). For FIRE accounting purposes, my recommendations are as follows:
Gilberto de Piento wrote:
Thu May 24, 2018 8:56 am
Costs I can think of (with Fish’s opinion on how it should be categorized):
- Inspection (expense)
- Appraisal (expense)
- Earnest money (negative adjustment to NW)
- Downpayment (negative adjustment to NW)
- Insurance (expense)
- Monthly payment (expense... be careful not to fool yourself here)
- Repairs (expense)
- Improvements (expense if under $5,000, otherwise negative adjustment to NW)

George the original one
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Re: How to Count House Expenses?

Post by George the original one »

It's a real estate asset. Like all assets, its value can go up/down. The brokerage and maintenance fees are high as assets go, but it's possible to more than recoup them by renting out portions of the real estate. Insurance, taxes, and interest paid on a mortgage are an expense, the principal is not.

In my case, I expect to sell this house when I'm ready for the old folks home and the lump sum will pay for food & rent.

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Seppia
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Re: How to Count House Expenses?

Post by Seppia »

ffj wrote:
Thu May 24, 2018 10:49 am
It's all an expense. Seriously, up and until you sell it at a profit, and don't sink that money into another house, it's an expense.
Reasoning in this way, stocks would be an expense too until you sell at a profit.
The part of the house that is owned is an asset, it can be a bad investment in some cases, but so do stocks.

I mean I'm very careful in evaluating real estate value (the way I would book it is "the price net of fees and taxes it would fetch if I had to impeartively sell it within a week"), but a house does have value.

2Birds1Stone
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Re: How to Count House Expenses?

Post by 2Birds1Stone »

I would count transaction costs as an expense, and then any ongoing expenses such as taxes/insurance/etc.

If you put $40k down, I would however subtract the transaction costs of the house on the sale side from the equity you have.

So say you buy a $200k house with $40k down. The house will cost $X in most likely situation when you are ready to unload it. I would subtract that from the $40k in equity you have when tracking net worth, that delta is also an expense, albeit a future one.

Gilberto de Piento
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Re: How to Count House Expenses?

Post by Gilberto de Piento »

Thanks everyone!

IlliniDave
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Re: How to Count House Expenses?

Post by IlliniDave »

I just looked at it as moving from one asset (cash) to another (real estate). So I would only count closing costs from the transaction, but not the down payment. At least that's how I treated paying off my house (no expenses on that one) and when I bought my cabin (closing costs). Similarly I don't count buying bonds or stocks as an expense, just a transfer of assets. So no accompanying negative adjustment to net worth as someone suggested above.

With a mortgage I would count interest/escrow as expense but principal would be a transfer of assets.

Ongoing expenses like insurance and taxes (if not handled by mortgage escrow) and maintenance/repairs I count as expenses.

In the run up to selling the house, things I am doing solely to prepare it for sale I do not count as expenses. I keep a tally though. After the sale I'll account for them by "booking" the sale price net of transaction costs and those expenses. That's a little fudgey because my record keeping started many years into an existing mortgage, so I don't really have a way to determine if those costs were truly recouped, but for me selling a house is likely a once-in-a-lifetime event and so it probably doesn't matter all that much.

Fish
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Re: How to Count House Expenses?

Post by Fish »

Judging from the replies so far it should be obvious that the question of whether a house is an investment is an eternal disagreement. There's no single correct method, just the one that works best for you. If asked 10 years ago, I would have argued the "investment" side to the end. It's closer to mathematical reality. But, I think expending the energy to run the numbers distracts from the more important question of whether the housing cost is appropriate for your situation.

As an investment, here are the assumptions I would use, and some things to consider in the analysis. It's not a complete list.
  1. 0% real returns for capital appreciation
  2. 5-10% back-end load to reflect transaction costs when selling
  3. Ongoing expenses for property taxes, interest portion of mortgage payment, insurance, utilities, etc.
  4. Opportunity cost of capital
  5. Pays "dividends" in the form of imputed rent, equal to the cost of your plan B, ERE-compatible housing solution.
  6. Principal portion of mortgage payment is neutral (you're paying yourself, but it's an obligation)
  7. Tax deductibility of mortgage interest and property taxes (compare tax savings by itemizing on Schedule A vs. taking the standard deduction)
Rather than bother to do this analysis properly, I find it much simpler to look for the cash outflows and treat them all as an expense. Save the math for a real investment (like a rental property).
IlliniDave wrote:
Fri May 25, 2018 7:00 pm
I just looked at it as moving from one asset (cash) to another (real estate).
I do agree that home equity should be considered as part of the portfolio to help inform decisions about asset allocation. Most of us homeowners (myself included!) are too house-poor to ignore it.

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Seppia
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Re: How to Count House Expenses?

Post by Seppia »

Re reading my posts I understand I was really terrible at explaining my point of view
ffj wrote:
Fri May 25, 2018 10:11 am
Quite frankly, from a strictly monetary standpoint, many times it is better to rent in my opinion.
I am 100% in agreement with this.
I have lived in about 15 different apartments since 2002, in three different countries and 8 different cities, and every time I did some basic math, renting was ALWAYS the better solution for me, and it wasn't even close*.

So I should not have said "it's an investment", but strictly "it's an (expensive to maintain) asset".

*Still, DW and I are purchasing a very small new apartment (less than 600sqf) in our hometown Como, and we are doing this knowing it's bad economics.
We just like it for the downside protection: in case anything terrible happens, we/the surviving spouse will have a place where to live.
Life in Italy can be extremely cheap if you don't have to pay housing and don't own a car.
We are lucky to be already in a situation where minimizing the chance of black swan events is more important than optimizing our "normal case scenario" financials.

IlliniDave
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Re: How to Count House Expenses?

Post by IlliniDave »

Fish wrote:
Sat May 26, 2018 2:35 am
IlliniDave wrote:
Fri May 25, 2018 7:00 pm
I just looked at it as moving from one asset (cash) to another (real estate).
I do agree that home equity should be considered as part of the portfolio to help inform decisions about asset allocation. Most of us homeowners (myself included!) are too house-poor to ignore it.
I do consider real estate an asset when I add up my net worth, but I don't typically consider real estate for personal use as investments. Nothing wrong with viewing one's home that way, I just don't. I now have a small interest in some farm acreage that is rented, and there's a good argument to count that as an investment asset since it produces a small income, but the value of my interest is something on the order of 3% of my invested assets so I just haven't bothered yet.

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